Cancellation of Student Loans

In general, if a loan or other debt you owe is canceled, you must report the cancellation as income. This means that you will generally have income if your student loan is canceled. But if your student loan qualifies for the exception described below, you won't have income from the cancellation.

Many student loans contain a provision that all or part of the debt will be canceled if the student works for a certain period of time in certain professions for any of a broad class of employers. If cancellation of all or part of your student loan is contingent on your fulfilling this type of service requirement, you won't have income if any part of the loan is canceled because you performed the required services. Student loans that qualify for this exception are loans that are made to a student to help him attend a tax-exempt educational institution.

Qualifying student loans may be made by government entities (e.g., the U.S., or a state), by tax-exempt public benefit corporations, or by tax-exempt educational institutions out of funds the institution received from a government entity or tax-exempt public benefit corporation. That is, loans made with government funds may qualify.

Loans made by tax-exempt educational institutions out of private, nongovernment funds also qualify, but only if the loan imposes a public service requirement. The institution must have made the loan under a program designed to encourage students to serve in occupations or areas with unmet needs, and the services provided by the student (or former student) must be for or under the direction of a governmental unit or a tax-exempt organization.

The Public Service Loan Forgiveness Program is a federal program that forgives the remaining balance on your federal direct loans if you meet certain requirements. You must work full-time for a qualifying employer and make 120 qualifying monthly loan payments while doing so. Therefore, it is possible to have a loan forgiven after as little as 10 years. Qualifying employers include government organizations, 501(c)(3) nonprofit organizations, and other types of nonprofit organizations if their primary purpose is to provide certain types of qualifying public services.  You can find additional information regarding this program and all of its requirements at https://teststudentaid2.ed.gov/testise2/repay-loans/forgiveness-cancellation/public-service.

With the change in federal administration at the beginning of 2017, it is important to be aware that changes to the Public Service Loan Forgiveness Program may be possible in the future. The most recent proposed White House budget would end the program for loans issued on or after July 1, 2018, unless the loan was provided to help the student finish their current course of study. The budget also proposed changes to an income-based repayment plan, which includes forgiving student loan debt sooner, but at the cost of higher monthly payments. Also, income-based loan forgiveness is taxable to the borrower. Any proposed changes must be approved by Congress.

Many states also have student loan forgiveness programs. These may be general or for specific fields of employment, such as teaching or law. You can find additional information regarding student loan forgiveness programs for a specific state at http://thecollegeinvestor.com/student-loan-forgiveness-programs-by-state/.

It is important to remember that the exception described above is tied to a public service requirement. You will have income from the cancellation of your student loan if you don't fulfill your public service obligation, or if the service obligation doesn't qualify for the exclusion.

Please contact us if you have any questions or would like more information.